After last week's blood bath in the currency and equity markets, the lack of high profile meetings or major event risk on the calendar this week has driven volatility in the FX markets lower. As a result, it has been a quiet morning in the foreign exchange market with the dollar trading higher against all of the major currencies with the exception of the AUD and NZD. The continual upside pressure on Spanish bond yields represent the market's ongoing concerns about Europe and the overwhelming desire of investors to sell rallies in EUR. According to the latest CFTC IMM data, both long USD and short EUR positions rose to a record high last week. Long dollar positions increased 50 percent while short EUR positions rose 20 percent. This shift in positioning confirms that investors are bracing for a Greek euro exit and unfortunately this weekend's G8 meeting lent zero support to the currency market. The world is still looking for Greece to solve its own problems and for this reason, selling rallies in the euro continues to be the most popular trade. While the leaders of the 8 major industrial economies supported the idea of Greece remaining in the eurozone, they also called on the country to honor their deficit reduction commitments. No economic policies were announced but the G8 nations agreed that they need to start thinking about combining growth measures with debt reduction.
If not for China's renewed commitment to make growth a greater priority as well, we would have probably woken up to a deeper slide in currencies. The recent weakness in Chinese economic data has raised enough concern among high level officials that Premier Wen Jiabao vowed to use fiscal and monetary policy to ensure steady growth. Last week, China released more liquidity into the market by lowering their reserve requirement ratio 50bp and what the Chinese government is saying now is that more fine tuning measures to support the economy could be implemented in the coming months. Unfortunately with Europe still posing a serious risk to the global markets, China's growth focus has not provided much support to risk appetite. For the time being, the degree of short EUR/USD positions shows that investors are still very skeptical about a positive resolution to the Greek / Spanish / Italian sovereign debt crisis but with the market overwhelming short euros, if there is a modicum of good news (which we don't expect), investors should be wary of a strong short squeeze in the EUR/USD. In the meantime, the EUR/USD should remain under pressure until Greece holds their elections in June with the year to date low of 1.2825 being the key support level.